Richard C. Longworth, senior fellow at The Chicago Council on Global Affairs, contributes his knowledge and ideas about issues that affect the Midwest.

Tuesday, April 17, 2012

The Outsourcing of Santa Claus

Many Midwestern cities see their post-industrial future in a combination of health care, education and high-end manufacturing. They may be chasing an impossible dream.

This is a conclusion drawn from recent studies that argue that manufacturing -- high-end or not -- isn't coming back, at least as a major source of jobs, while growth in jobs in health care and education is going to slow down or stop, mostly because the governments that fund it are deeply in debt.

For many Midwestern cities, this is like telling them there's no Santa Claus.

Most of these cities have a rich industrial past, where factories provided the jobs that created a middle-class way of life. After years of decline, these cities have accepted that these jobs -- low-skill, high-wage jobs on assembly lines and blast furnaces -- are gone for good.

But I've been struck by how many of these towns have pegged their future on health care and education. Many have excellent hospitals, a legacy of the first-class health benefits the old companies provided, and are setting themselves up as regional medical centers. Others became college towns, with substantial colleges and universities, public and private. Almost all have big and growing community colleges. In the knowledge era when workers will need at least some post-secondary education, these schools have become a real force in the economy.

There are a lot of these cities: think Akron, Dayton, Peoria, Flint, Muncie and many more. In most of these towns, hospitals and schools are now the biggest employers. The third biggest is usually government itself. (The biggest private employer too often is Wal-Mart.)

More recently have come predictions that, if old-style manufacturing is gone forever, the Midwest can still thrive on high-end sophisticated manufacturing, the sort of production that relies more on high quality and skilled workers at home than on cheap wages abroad.

The leading grinch in this thinking is a Nobel Prize-winning economist named Michael Spence, who wrote an article in Foreign Affairs magazine and a new book, The Next Convergence: The Future of Economic Growth in a Multispeed World.

Shamefully simplified, this is the gist of some of Spence's arguments:

There are two parts to the economy. One is "tradable goods:" that is, goods that can be exported or imported, which includes most manufactured goods, farm products, raw materials and an increasing number of services. The other is "nontradable goods," which are services that mostly have to be done face to face. These include most health care, government, construction and education. Like taxis and haircuts, they aren't going to be outsourced.

Spence says that, from 1990 until the recession started, America added 27 million new jobs. But almost all -- 98 percent -- were in the non-tradable sector, especially government and health care. The tradable sector -- that is, manufacturing -- barely added any new jobs at all.

Not that manufacturing itself declined. It didn't. The U.S. makes as much as it ever did. But it's making it by investing in machines -- automation -- not people.

The upshot is that even if high-end manufacturing grows, it won't provide good jobs. For most manufacturers, it's not only easier but necessary to replace high-wage workers with robots, which is what they're doing. The tradable sector will create some good jobs but mostly at the very top end -- executives, finance, design: there won't be many of them and they won't go to average workers.

But that's OK, because we still have that fast-growing non-tradable sector, all those government and hospital jobs, right? Wrong.

Spence states the obvious, that these jobs depend largely on government spending. Spending, especially on health, had been going up, hence the increased jobs. But those days are ending. Governments -- federal, state and local -- are in debt. All are cutting. The number of public sector jobs, including jobs in schools, already is plummeting. As every headline reader knows, it's going to get worse.

But there's something odd going on here. American output and productivity are increasing. The economy, measured by GDP and the stock market, is doing fine. Traditional economics teaches us that an expanding economy always creates jobs. So does increasing productivity.

Except it's not happening now. What's going on?

The economist Benjamin M. Friedman, in a review of Spence's book, says there always have been fears that new technology would kill jobs, and these fears always have been wrong. Despite the warnings of the so-called Luddites, new technologies, from the steam loom to the horseless carriage, have spurred economies and created more jobs than they killed.

Says Friedman: "A nagging fear in the back of most economists' minds is that one day the Luddites may turn out to be right." That day may be now. Take automation, which enables employers to replace people with machines, and throw in globalization, and you've got what Spence calls "convergence," which means that formerly underdeveloped countries like India and China can challenge developed countries like the United States, forcing either the export of jobs or the decline of U.S. wages to Third World levels.

Both are happening.

The conventional wisdom says that, if the Midwest wants to compete in the global economy, it must devote more resources to education and infrastructure. But as Friedman writes, Washington and the states may decide they can't afford to do this. This, he says, not only shrinks the number of available jobs but guarantees that workers "will remain vulnerable to competition from lower-wage labor abroad."

One final thought, perhaps the gloomiest of all. Spence says that all the above does not add up to a failure of the economy, as traditional economists measure it. Just the opposite: all that outsourcing and automation mean the economy itself is working just fine and certainly is highly efficient. It's just the people who live within that economy are suffering.

This comes pretty close to a Nobel Prize-winning economist saying that what's good for the market economy can be bad for society.

6 Comments

It's obvious that the growth in health care spending is unsustainable. At some point that has be reigned in. Everyone is pinning their hopes on eds and meds but as you note, this isn't possible. We're also seeing increasing concern about the so called "education bubble." The party can't go on forever on these.

"..all that outsourcing and automation mean the economy itself is working just fine and certainly is highly efficient. It's just the people who live within that economy are suffering."

Gee, does that mean that the 1980s busted /diminished Unions, the 1992 anti-NAFTA protestors, the 1998 anti-globalization / WTO Protesters, the 2010 US Social forum activists, and the 2011+ Occupy Movement actually had valid points?

"Free-Trade" Pollyanna economists, meet the barn door.
A shame about the horses having left, though.

Higher capital investment in manufacturing technology results in higher-paid manufacturing technicians, and skilled jobs designing, building, installing, and maintaining the automation equipment. Corporations typically do this close to home.

The days of the 5,000-employee factory are mostly over (though there are still quite a few auto-assembly plants that do employ thousands). But that does not mean that America's manufacturing jobs will disappear.

It'll be a lot like farming, where 3% of the population today produces more than 30% used to.

What you've missed is that growth in producing higher-value tradeable goods supports growth in the provision of non-tradeable goods. The economic concept is "surplus": the US initially became a rich country by producing an agricultural surplus and then had enormous productivity gains. Now it's true of our manufacturing, too.

When housing starts finally normalize (i.e. revert to something closer to the long-term norm), it will pull up a lot of the current slack in the economy.

Chris, look at your own apt analogy ("it's a lot like farming..."), and understand how it undermines your prediction. Productivity gains are effectively becoming unlinked from, divorced from, labor inputs. An economy can be productive and woefully underemployed. And that should, and must, be understood as a serious - the serious -political problem.

The very stake most of the population could ever hope to have in "the economy" - their ability to do needed work - is dissolving.

But they are still human beings. And before academia capriciously parted politics and economics, the realm of contemplation was called "political economy". There are very, very good reasons for that. And they have quite little to do with mechanistic concepts of factor inputs, etc.

civisisus, I disagree. My point is that the economy keeps inventing new jobs when old ones go away. The innovation engine has not stalled out.

How many people worked for Amazon, Home Depot, or Lowe's in 1995? For FedEx in 1980? I think Amazon is up to 7 distribution centers in Indiana. FedEx's second-largest US air-package hub is in Indy. Just because manual laborers no longer make the products doesn't mean there isn't manual labor available. Today's manual workers handle boxes instead of making what's inside them.

And there is a more-clear divide between those with higher education or vocational certification, and those without. I get that. But any individual still has opportunity; as long as there is hope, social disaster is avoided.

Two of the ten largest retailers, Best Buy and Sears/Kmart, are in serious trouble and barring a turnaround may not not be around in a few years. Even Target's revenue is been mostly flat. (Like many top retailers all three are Headquartered in the Midwest.)

The culprit besides the poor economy and higher commodity prices has been Amazon which last year grew around 40% and this year is expected to grow around 30%. Basically retailers, even Walmart has problems competing with Amazon on price and also Amazon is perceived as a quality retailer unlike Walmart. Amazon is expected to exceed both Best Buy and Sears/Kmart in revenue this year.

Amazon has only around 65,000 employees including warehouse personnel. As for the jobs created by the seven new distribution centers just opened up in Indiana, don't expect many of them to last. Amazon just bought Kiva Systems for 775 million dollars after being one of their big customers.

What does Kiva make? It makes robots that work in warehouses and replace half the staff. Here is one of the many videos:

The Global Midwest Initiative of The Chicago Council on Global Affairs is a regional effort to promote interstate dialogue and to serve as a resource for those interested in the Midwest's ability to navigate today's global landscape.